World’s superpower and home of our favorite movies, USA was shut down for 16 days (Oct 1 – Oct 16). After much debate and blackmailing, shut down was over eventually. Every eyes were on US government and some folks back in India were having a gala time thinking, “Yay! we are not alone, your government sucks as well!!”
Although, not many of us actually took some pain and tried to get under the matter. I am not saying that they don’t deserve criticism, all I am saying is that we should understand the whole situation which would help us to comprehend that:
1) What actually happened
2) The pitfall of populist governments
3) Another shutdown is inevitable
4) How Indian economy would react
I took some pain and actually devoted a day to understand the whole situation, not a rocket science, but certainly very helpful. Treat this article as sort of dummies guide for US 2013 shutdown.
Like India, US also have current account deficit problem (surprise, surprise!), which means, it spends more than it actually earns. In fact, most of the countries have this problem. Any country’s government, earns its revenues from collecting taxes from various parties. According to the Economic Times, a fairly credible newspaper, US government total annual earning through tax is $2.4 Trillions. Same source says US governments total annual expenditure is $3.5 Trillions. Now that raises two questions;
A) What the hell government spends so much money on?
Well, government spends money on salaries of government workers, various subsidies, foreign aids which US gives signalling “Oh we are so rich, why don’t you keep some of our change lest it will rot”, space programs ( fans of Dan Brown’s Deception Point would be nodding right now), running various institutions like public schools, museums, parks etc. and all the other facilities which US citizen has birth-right for, for example healthcare, sanitation, water, electricity (BTW, the powercuts in US are so rare, it becomes international news if there is one).
B) US earns 2.4 trillion dollars, spends 3.5, how is it possible? Do the math bimbo!
It might be obvious to some of you, but for those who are not aware, governments bridge this gap by either raising taxes, cutting expenses, issuing bonds or by printing more money. A country uses mixture of any one of such methods to raise money but when we talk about US, it focuses majorly on issuing bonds. Let me break it down further;
B.1) Raising taxes and cutting expenditures:
These two are the most rationale solutions for this particular problem and should be any wise man’s decision in a perfect world, but the question is, do we live in one? These decisions are taken by finance ministry of any government and these two measures are termed as “suicidal measures” which any government can take. Majority of citizens would not like to pay more taxes and would also not like if government stops spending. The popularity of the president would go down and he/she would not be re-elected in next election, and everyone knows, in a democratic country, remaining in power is more important than serving the nation. Duh!
B.2) Printing more money:
Printing more money would lead to inflation, which means goods will become more expensive. A political suicide perhaps?
B.3) Issuing bonds
Aah! Finally a way where everyone can be happy. US issues government bonds, also known as US treasuries. Investopedia defines government bonds as;
A debt security issued by a government to support government spending, most often issued in the country’s domestic currency. Government debt is money owed by any level of government and is backed by the full faith of the government. Federal government bonds in the United States include: the savings bond, Treasury bond, Treasury inflation-protected securities (TIPS), and others. Before investing in government bonds, investors need to assess several risks associated with the country such as: country risk, political risk, inflation risk, and interest rate risk.
In layman’s terms, a government bond is a bond issued by a national government, generally with a promise to pay periodic interest payments and to repay the face value on the maturity date. As US is one of the most influential country of the world, it’s bonds are sold like a hot cake. Now government issues bonds to 3 parties; individuals, banks and foreign governments (Here’s a fun fact, according to the May 2013 US treasury reports, China owns roughly $3.4 trillions of US bonds.). Make no mistake, by issuing such bonds, US is essentially borrowing.
US lawmakers have set a limit on amount a government can borrow. The cap just before shutdown ended was $16.69 trillion. It makes sense to set such cap on borrowings otherwise a populist government would keep borrowing and get re-elected again and again (this is a short-term assumption). If the government keeps on borrowing, one day it will fall flat on its face because it’s revenues are not so high enough to repay the debts and one day people/banks/foreign governments will stop lending to US government. So, a cap makes perfect sense in a rationale world. But again, do we live in one? Over the years, this cap, commonly called debt ceiling has been raised over 70 times, since 1962 to be precise.
Now, let us come to US 2013 shutdown and see how it is connected to the information above. As you might have deduced by now, issuing bonds to such an excess is not exactly a good idea, specially to a foreign country as it would mean that a foreign country owns a part of your country. Although, populist governments just to remain in power become short-sighted and continue to borrow, vehemently destroying debt ceiling limits one after another.
Debt ceiling limit was broken over 70 times, but this time in 2013, opposition party refused to increase the debt limit. The reason is political. The Democrats, led by current president Obama, had a trump card for next elections, called as healthcare bill. Just like Food Security Bill is UPA’s electoral trump card in India, Healthcare Bill is Democrats trump card for US election. Healthcare bill, would obviously mean increased government’s spending, which would mean more need for borrowings, more issuing of bonds hence again increasing debt ceiling. As opposition (Republicans) refused to increase debt ceiling, it killed Obama’s trump card. It publicly said that healthcare bill is too expensive and will add to country’s economic woes. One thing should be noted here, although Democrats are ruling power but House of Representatives have majority of Republicans, led by Paul Ryan. So, on such important decisions like increasing debt ceiling, the consent of Republicans is an absolute necessity. This led to an impasse, hence government shut down. Both parties were not agreeing to each other.
Situation was very tense, on the eve of the shutdown, US had enough resources with itself that it can pay payments till Oct 17. Which means, as none of the government’s revenue generating arms were working, it had reserves by which it can pay it’s workers till Oct 17 2013. After that, all payments would had become defaulted.
This would had led to downgrading of credit rating of US by various credit agencies, resulting in low investor’s confidence. Without any investments, there would be no jobs and US could had witnessed another recession. Inability of US to pay back it’s lenders would had a domino effect and eventually banks would had collapsed.
Tough bargaining from both sides led to an end of emergency on 16th October, just a day before US reserves would had gone dry. Debt ceiling was raised yet another time, Democrats said that it was there win, Republicans said they have taught government a tough lesson.
My point of writing all this? It’s been exactly one month and one day after US shutdown ended. We must understand that the solution identified by US government is a short-sighted yet again. This problem will rise again, the healthcare bill will lead to increase in expenditure. US government will borrow again and it will keep borrowing till it will become just impossible for them to borrow anymore. The threat of shutdown and all its bad effects would loom on us. The domino effect would effect us as well. (Read all foreign banks would collapse in India). Why the whole world should pay so that US citizens could get free medicines?
Governments should shun the politics of populism, times are tough and we should be ready to make some sacrifices, let’s be more informed and appeal to our government that we should not let this thing happen in our country.
Randomstan 